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Profit margins under scrutiny at Deere, Canadian Solar Add to ...

Agriculture and solar power are two industries that have commanded investor optimism in recent years, with 7 billion people around the globe now testing the supply limits of both food and energy.

But quarterly results from two major players this week will likely tell a cautionary tale. For Deere & Co. , one of the biggest manufacturers of equipment for the agriculture, forestry and construction industries, the story will focus on costs and exposure to fast-growing international markets. For Canadian Solar Inc. , investors will be looking for a sign that the company has a plan to steer through an unexpected glut of solar equipment.

On Wednesday, the Street is expecting Deere to post a 19 per cent rise in revenue, to $7.8-billion (U.S.), and a 35 per cent jump in share profit, to $1.44 a share, for its fiscal fourth quarter.

Investors will be closely watching profit margins after third-quarter figures were weakened by rising costs for raw materials and higher sales and administration expenses. The Street will also be paying close attention to inventories, on concerns that the company might be seeing a cyclical slowdown.

Some investors dove into the stock betting that North American farmers, rich in cash from rising food prices, would pump their profits into new equipment. While that buying has happened to some degree, U.S. and Canadian sales are nowhere near the pace of international markets. In its previous quarterly report, Deere said that growth in foreign sales was five times more than growth in North American business.

The trouble is that last year international sales accounted for just 35 per cent of Deere’s revenue. In the most-recently reported quarter, that figure had risen to 43 per cent. Investors will pay close attention to the international sales number on Wednesday, recognizing that management has indicated it won’t reach 50 per cent until at least 2018.

Three months ago, Deere notched up guidance for the full year, but it gave no further details about future performance. RBC Dominion Securities Inc.’s Seth Weber thinks that the company will achieve 9 per cent revenue growth and a 10 per cent gain in share profit this fiscal year. He rates the shares “sector perform” with a $95 price target, based on a price-to-earnings multiple of about 13.

On Tuesday, analysts forecast that Canadian Solar will report a 30 per cent jump in sales to $489.1-million. But the Kitchener, Ont.-based company is also expected to swing to a loss, turning last year’s $20.3-million profit into a loss of $31.7-million.

The price of solar energy is rapidly approaching the price of conventionally produced electricity in some markets. Even so, it is not a bright environment these days for most solar equipment companies, including Canadian Solar. The industry is suffering from falling world prices for solar panels, growing production capacity and cuts to European government subsidies.

Europe was suppose to be the global driver for the solar market, but European demand is not living up to expectations. Jonathan Dorsheimer of Canaccord Genuity Corp. says the solar market there could be defying conventional wisdom and may already be approaching saturation. Unfortunately, Canadian Solar, along with rivals such as Hanwha SolarOne Ltd., are highly exposed to the European market, he says.

As a result of these conditions, margins are getting squeezed. Last month, Canadian Solar reaffirmed that it expected shipments in the third quarter to range between 350 and 360 megawatts, despite the headwinds the industry is feeling. But it warned that gross margin will only range between 2 per cent and 5 per cent, compared with prior guidance of between 9 per cent and 12 per cent.

The news has put even more pressure on the stock, whose price is down about 80 per cent this year. Canadian Solar shares trade at just 1.8 times reported earnings, in line with some competitors, such as SunTech Power and Trina Solar. None of the 10 analysts following the company rate the stock a buy.

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